|
What You Can Do Before the Kiddie Tax
Loophole Closes
When President Bush signed new legislation in May to limit
gifts to children that take advantage of their lower tax rate,
it was the second time in just over 12 months that Congress
extended the reach of the so-called kiddie tax, which subjects a
child's income to his/her parents' higher tax rate.
Maneuvering around the kiddie tax has helped parents save for
college educations for years, and given the changes, it's a good
idea to consult a financial or tax adviser to discuss your
options.
Congress apparently got fed up with a particular tax strategy
used by wealthy families who transfer large piles of stock,
mutual fund shares and other assets to their kids (who are
typically in the lowest two income brackets of 10 percent and 15
percent) so they could sell those securities at a low capital
gains rate. The top rate on long-term capital gains and
qualified corporate dividends is 15 percent, but since 2003,
those in the lowest two income brackets had a shot at a 5
percent capital gains, which is scheduled to drop to zero for
those low-income taxpayers in 2008.
So here's what's happening this year and next. During 2007,
investment income for a child 17 years old or younger (measured
as of Dec. 31, 2007) above $1,700 is subject to his parents'
higher tax rate. (Before 2006's changes in the law, the kiddie
tax applied only to kids younger than 14.)
Starting in 2008, the age limit for the kiddie tax will rise
to 18 and under, or 23 and under if the child is a full-time
student. There are some exceptions for kids with paid jobs — the
expanded provision applies only to children whose earned income
does not exceed one-half of the amount of their support needs.
What you can do now
If you had put appreciated securities in your child's name
and the child is a full-time student under the age of 23 but at
least 18, your child can sell those securities this year and
still claim the 5 percent capital gains rate. There won't be a
zero capital gains rate available to your student next year, so
you need to act before the end of the year to take advantage of
the 5 percent rate before it becomes the parents' 15 percent
rate in 2008 via the kiddie tax.
You may also want to start or redouble your efforts in the
529 college savings plans you've set up for your kids. Qualified
withdrawals for education are tax-free and therefore wouldn't be
subject to the kiddie tax. The same is true for qualified
withdrawals from Coverdell education savings accounts.
Outside of 529 plans, you might consider investments that
generate little or no taxable income such as municipal bonds.
Whatever gift and tax strategies you apply to your college
savings strategy, make sure those assets don't undermine any
efforts your child is making to secure financial aid.
October 2007 — This column is produced by the Financial
Planning Association, the membership organization for the
financial planning community, and is provided by Don McCarty of
Financial Decision Partners, a local member of the FPA.
|
